The Real Reason the Economy Might Collapse

Skyrocketing wealth inequality isn’t just wrong. It’s also weakening our economy. 

70 percent of the US economy depends on consumer spending. So American consumers need to spend enough money to buy most of the goods and services Americans are capable of producing. 

This means that over the long term their incomes need to keep pace with their productivity. 

But their incomes haven’t. Over the past 40 years, most people’s wages have basically stagnated, while worker productivity has soared. 

Where did the economic gains go? Mostly to the top. The wealthy now own more of the economy than at any time since the 1920s.

Here’s the economic problem: The wealthy spend only a small percentage of their income and wealth. Their spending is not enough to fulfill the consumer demand that keeps the economy churning.

Lower-income people, on the other hand, spend almost everything they have – which is becoming very little. Most workers aren’t earning nearly enough to buy what the economy is capable of producing. 

The result is a gap between potential output and potential consumption.

To fill the gap, the economy depends on people going deeper and deeper into debt so they can buy. Even in 2018, when the economy appeared strong, 40% of Americans had negative net incomes and were borrowing money to pay for basic household needs.

The Fed has had to keep short-term interest rates lower and lower to accommodate this buying. And the government has to spend more and more to fill the remaining gap. 

None of this is sustainable. At some point, widening inequality causes the economy to collapse. 

We’ve seen this before. Years ago, Marriner Eccles, chairman of the Federal Reserve from 1934 to 1948, explained that the Great Depression occurred because the buying power of most Americans fell far short of what the economy was producing. 

He blamed the increasing concentration of wealth at the top: “A giant suction pump had by 1929-1930 drawn into a few hands an increasing portion of currently produced wealth. As in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing. When their credit ran out, the game stopped.”

While the wealthy of the 1920s didn’t know what to do with all their money, most Americans could maintain their standard of living only by going into debt. When that debt bubble burst, the economy tanked.

Fast forward 100 years and we see the same pattern. While the typical Americans’ wages have barely budged for decades, adjusted for inflation, most economic gains have gone to the top, just as Eccles’s so-called “giant suction pump” drew an increasing portion of the nation’s wealth into a few hands before the Great Depression.

The result has been an economy whose underlying structure is far more fragile than it may seem.

Remember the housing and financial bubbles that burst in 2008? We avoided another Great Depression then only because the government pumped enough money into the economy to maintain demand, and the Fed kept interest rates near zero. Then came the pandemic.

The Fed has had to keep interest rates near zero. And the government has had to pump even more money into the economy. While these programs have been crucial to staving off a pandemic-induced depression, they’re only temporary.

Over the long term, the real worry continues to be on the demand side. Widening inequality means not enough demand. 

America’s wealth gap is now more extreme than it’s been in over a century. Until this structural problem is remedied, the American economy will remain perilously fragile.

It will also be vulnerable to the next demagogue wielding anger, racism, and resentment as substitutes for real reform. 

Closing our staggering wealth gap is crucial to the survival of both our economy and our democracy.